Policies of Scale: Efficient Global Policy

How a Coordinated IEA SPR Release Could Enable Russia Energy Sanctions

I read a nice report today from Securing America’s Future Energy (SAFE) and the owner of Economonitor, Roubini Global Economics (RGE), called “Russia-Ukraine Crisis and Its Implications for Global Energy Markets,” and it gave me an idea: America should export crude to IEA member states who agree to energy sanctions on Russia and participate in a coordinated strategic petroleum reserve (SPR) release.

The SAFE/RGE report argues that the scenario most likely to occur is a Russian military incursion into eastern Ukraine that will cause the Brent-WTI spread to widen on a 10% rise in Brent barrel prices (to $120/barrel) that could be tempered, “to a point,” by Saudi Arabia tapping its spare capacity. The point at which the Saudis would be unable to cover the loss of Russian oil flows through Ukraine (300,000-400,000 barrels per day) would be if Europe put crippling energy sanctions on Russia, an action SAFE and RGE do not believe is likely (and neither do I). The scenario would also send European natural gas prices up 40-60% to $14-17 MMBtu.

On the sanctions bit, SAFE/RGE say a coordinated release of strategic petroleum reserves (SPR) from IEA member countries “could also show markets that the West is committed to maintaining crude supplies,” which would help mitigate energy markets going haywire. Certainly any sanctions that cut the European market off from Russian oil would be helped by an SPR release, especially since the combined IEA SPRs’ volumes could accommodate 300k-400k barrels per day for quite some time. The IEA requirement for SPRs is that they maintain 90 days’ worth of the prior year’s net imports for each country. To put that into perspective, the US’s SPR normally sits at around 700 million barrels and during the 2011 Libya intervention, there was an IEA-wide SPR release of 60 million barrels, half of which came from the US.

The reason I suggest US exports of oil to Europe and do not include gas is because the logistics for exporting gas are much more difficult and operate on a timeline incompatible with moving quickly enough on Russia to be effective in Ukraine. There is a strong desire in some policy circles in Washington to discuss exporting gas and oil,  and those in the oil sector are divided depending on whether they are producers or refiners. Further, the economics seem relatively split on whether exports would cause a rise in domestic pump prices, though the consensus seems to say that modest exports would lead to even less modest pump price increases. This outcome is even more likely under today’s conditions where future prices are riding low on near record-setting US crude stocks. I have been a proponent of exports as a way to boost US economic and job growth, improve our trade balance, and provide additional stability to global markets.

All this adds up to a great excuse to export a little bit of our oil. Think of the upsides:

1. It enables Europe (and the US) to use the only real stick it has against Russia.

2. It gives Europe some extra incentive to quicken its energy import diversification efforts.

3. It provides the US some short-term economic gains.

4. It provides a well-rationalized test case for US oil exports (special circumstances acknowledged).

5. Depending on how it is structured, it can help US or European refineries. Or both.

A brief overview of four complications of my suggestion is warranted (brief because there is no way this idea gets off this page, so why waste my time). First, replacing Russian oil and incurring the attenuating cost are not the only reasons Europe is hesitant to sanction Russian energy – there are deep economic ties in other sectors that would likely be adversely affected. Second, unless the sanctions also applied to gas, Russia would be tempted to try to cripple Europe by raising gas prices dramatically. Third, if the US exports crude (as opposed to refined gasoline), it must send it to refineries capable of processing it. And forth, thought not insurmountable, US crude export law currently requires a Department of Energy (DOE) waver to export to countries with whom the US does not have Free Trade Agreements (FTAs). It is a mathematical certainty that there are IEA countries with whom the US does not have FTAs, so the DOE would have to move double time to get this done.

Refining capability matching and DOE logistics aside, there is good reason to believe the idea is worth the risks. The evidence is overwhelming that Russia is prioritizing geopolitics over economics (SAFE & RGE argue this as well).  However, in a recent WSJ op-ed, Ilan Berman argues that Putin is already costing Russia a lot of money with his escapades in Ukraine to the tune of a $51 billion exodus of capital in the first quarter of 2014 (a number not hit since 4Q2008) as the country’s economic development ministry revises its 2014 GDP growth down from 2.5% to 1%. Despite Putin’s 72% popularity rating, Berman sites former Russian Finance Minister Alexei Kurdin who estimates Russia’s actions in Ukraine could lead to as much as $160 billion in capital flight this year and a legitimately stagnated Russian economy.

While doomsday predictions tend to overstate the likely outcome, in a country with a dying population and little more than energy to sustain its budget, tough sanctions on the energy sector are really the only tool the West has that will make Putin at least pause his Ukrainian strategy. An American promise to export enough crude to refill SPRs in the hope that this encourages Europe to more seriously consider energy sanctions would therefore, as the SAFE/RGE report suggests, “show markets that the West is committed to maintaining crude supplies,” mitigating any adverse impact Russia sanctions would have on energy prices.

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